UBS On-Air: Paul Donovan Daily Audio 'Firing amidst a ceasefire'
The desk views the recent escalation in US-Iran tensions as a critical factor influencing the global macro landscape, particularly with implications for oil prices and geopolitical risk. Per the full note from UBS, the Iranian government's resilience suggests a potential prolongation of the current geopolitical standoff, keeping the Strait of Hormuz closed longer than markets anticipate. This leads us to a cautious stance on currencies correlated with oil prices, particularly the USD and CAD, as rising geopolitical risks may drive volatility and risk aversion in the FX market.
What the desk is arguing
The desk posits that the ongoing military confrontations between the US and Iran, highlighted in UBS's commentary, signal a potential for extended geopolitical instability. This risk could dampen economic recovery prospects, especially in energy-dependent economies, thereby influencing currency valuations.
The UBS report emphasizes that the Iranian government still possesses significant military resources, implying that it could sustain its current posture without immediate incentive to negotiate. This underlines the possibility for oil prices to rise, reflecting increased geopolitical risk premiums in the forex market.
Where it sits in our coverage
Our consensus target for the USD/CAD pair stands at 1.075, within a range of 1.04 to 1.12, with key firm targets including: - jpmorgan: 1.10 (Mar-26) - bofa: 1.04 (Mar-26)
This desk's cautious outlook aligns with jpmorgan's positioning, suggesting that rising oil prices, driven by geopolitical tensions, could exacerbate the weakness of CAD against USD, though it diverges from bofa's more bearish view on CAD.
How other firms see it
Firms aligned with our outlook, such as jpmorgan, emphasize the potential for increased volatility in the energy markets to affect currency pairs linked to oil. Conversely, bofa presents a more cautious stance, assessing lower exposure to the geopolitical risks at play.
The efficacy of this geopolitical assessment is mirrored in the dynamics of the USD/CAD and USD/BRL pairs, as both are significantly influenced by oil price movements and investor risk sentiment in emerging markets.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01US-Iran tensions may prolong geopolitical instability, impacting oil prices and forex markets.
- 02The Iranian government's military capability suggests less urgency for negotiations with the US.
- 03Rising oil prices could increase demand for USD, particularly against CAD.
- 04Market volatility is expected as geopolitical risks influence trading sentiment.
Market implications
Traders should monitor the USD/CAD pair closely as oil prices react to Middle East developments. A break above 1.08 may signal increased demand for USD as tensions escalate further.
Risks to this view
A significant de-escalation in US-Iran tensions or a sudden agreement could reduce oil prices, swiftly reversing the current USD-CAD dynamics. Additionally, unexpected developments in trade negotiations could alter the reluctance for further tariffs, influencing the FX market dynamics.
Good morning, this is Paul Donovan, Chief Economist at GBS Global Wealth Management. It's 7 o'clock in the morning London time on Friday the 8th of May. There's quite a lot to occupy investors' attention today.
To begin with, the armchair generals of the financial markets will be watching developments in the Gulf, where Iran launched attacks on US naval vessels and on the United Arab Emirates, and the US launched airstrikes on Iran. US President Trump says the ceasefire is still in place. The Washington Post reports that the US CIA believe the Iranian government will avoid more significant damage to their economy for three or four months at least, and that the Iranians still have around three quarters of their pre-war stock of missile launchers and 70% of their pre-war missile stockpile.
This highlights again a key problem for financial markets. The damage to the United States is fairly obvious. Gasoline prices keep on rising with associated political pressures.
But the resilience of the Iranian government is very hard to gauge. If this reporting is accurate, there would seem to be much less urgency for Iran to do a deal with the United States, meaning either the United States has to compromise even further, or the Strait of Hormuz remains closed for longer than markets are currently pricing. In a different theatre of war, Trump set a deadline of the 4th of July for the US to implement a trade deal with the United States.
This is an extension of the previous deadline, and markets are not likely to place too much emphasis on it. Such deadlines are often extended or just ignored or forgotten. Trump is threatening to increase tariffs that US consumers would have to pay for buying European products, but the general tariff threat has also been blunted, with a US trade court ruling the 10% global tariffs – Section 122 tariffs – are illegal, albeit that this ruling only applies to the specific companies in the lawsuit and Washington State, the plaintiffs in the case.
It is estimated that US importers paid around $8 billion under these tariffs during the month of March, so if they are overall declared illegal, there will be fiscal considerations, albeit the tariff revenue is relatively minor compared to the increase in defence spending arising from the war. Meanwhile, German exports grew during March, against expectations for a decline. We have the April US employment report today.
This has receded as a market focus because employment will be one of the last things to be affected by the war. However, other factors have been affecting the labour force. Research from the National Bureau of Economic Research concluded that US workers have been more likely to leave the workforce, where ICE arrests of undocumented migrants has increased.
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